Investment Clubs: Philosophy 101

Knowing and believing in your investment club’s philosophy will help keep you (and the other members) on track during times of adversity: such as when stocks prices are dropping!

One of the most important elements for thriving investment clubs is the need for a clear vision. In the 90s, investment clubs used a criterion that was set by the NAIC (National Association for Investment Clubs). This organization is now known as Better Investing (betterinvesting.org).

Guidelines for buying and selling investments are important to prevent disagreements among the members. Another important element that is needed to keep order and stave off conflict is having clear cut operating procedures.

These bylaws will stay the course. They are non-negotiable.

Investment Clubs: Philosophy Then and Now

Let the debate begin…

Should you actively manage your investments? Or is the passive method a better choice?

Again, in the 90s, the philosophy was assets under management. For someone new to the investment game that means the total market value of assets managed on behalf of investors (you) by your investment company. These differ depending on our investment company.

The buzz right now is on passive and index investing. There is Nobel Prize research that proves that the current method of passive and index investing works better over time (versus the assets under management).

In fact, Eugene Fama, who has studied the market for more than fifty years states that there is no proof that market timing works. In other words, there is no long-term way to beat the market.

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Did I mention that Eugene Fama pioneered the Efficient Market Theory (technically known as Efficient Market Hypothesis) and he won the Nobel Prize for his work on market efficiency and outperformance?

What should we know about EMH?

Stock prices include all information known about companies

There are three categories of EMH (weak-form, semi-strong form and strong form)

New information is instantly incorporated into the market (the analysis can’t keep up)

There are products trying to prove the efficient market hypothesis wrong

An average investor won’t be able to beat the market vs a large bank with money and computer power), might.

EMH doesn’t mean markets are rational, or that assets are priced correctly (that depends on investor confidence and willingness to accept risk)

How does a Nobel Economics Laureate invests his own money? He buys index funds, TIPS.

What are TIPS, you ask? TIPS are Treasury Inflation Protected Securities. Their title is self-explanatory: they protect against inflation (they can be bought through the use treasury).

Active management has another downside–it has a cost to it (1% annually). That may not seem like much. However, it eats up the market returns–unless the manager is having a terrific year.

So, now we know what was believed to be the most congruent investment method in the past, and we have learned that today’s investment strategy is backed by research.

If you are wondering where I stand on this part of the debate…

I believe in passive and index fund investing. There is also a part of me that wants to “gamble” with a small portion of my money in companies that I think are doing well– in other words do some managing. One percent of my net worth is in this type of “lotto fund”. I have a strict rule that if I buy a company, I don’t put more than $2,000 into it.

Investment Clubs: A Not so Brief Word about Structure

Investment clubs are not regulated by the SEC (Securities and Exchange Commission)…unless they are involved in mutual funds. are truly a partnership with a certain structure. You are both an investor and manager. As with any well-run organization, it starts with an organized set-up. The start of the structure is with a signed agreement. There is a legal structure and a procedural structure in the form of by-laws.

You will pay a flat fee upfront and then pay a monthly amount.

You will meet each other periodically. This might be great if you are looking for more social opportunities.

There are even taxes to be done!

Most new clubs get a tax ID number. Some form a Limited Liability Company (LLC)–and do their taxes within the Limited Liability Company LLC.

There is no limit to how many members investment clubs might have.

Clubs usually have between 10 and 20 members.

The brokerage account will be in the name of the investment club. Some of these brokerage firms have special rules or deals with the club.

There is accounting software to be used with investment clubs and accurate records must be kept up-to-date.

Investment Clubs: Securities and Exchange Commission (SEC)

We all like to feel safe and secure…so are investment clubs regulated?

The SEC doesn’t usually regulate investment clubs. Each club will create its own registration requirements.

The state securities laws will more than likely be different from federal securities laws.

If members of the club expect to each participate (and do). They will not be considered securities because they didn’t make a profit off of someone else. However, if they make a profit off one apathetic or uninvolved member, they will be considered securities.

Investment clubs have to register with the SEC if they invest in securities, they issue membership interests that are in securities or if they don’t have an exclusion from the definition of an investment company (less than 100 members or don’t intend to publicly offer their securities).

If for any reason one member selects investments or is paid for providing advice about the investments–they will be considered an investment advisor and must register with the SEC.

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Investment Clubs: Cons

While there are pros for some people–there are also some cons. Some of those cons might seem small compared to others!

Members who don’t do their share of research or presentations

You must have a trusting relationship with your investment club members

When there is any controversy/disagreements within the group

The complexity of sorting out ownership and tax liabilities if one or more members wants to terminate membership

Limited control over your investments

Investment Clubs: Learning and Growing

There’s a membership fee to Better Investing. That fee includes access to educational products and events: webinars, online investment education classes, a stock selection guide and Getting Started curriculum.

The investment clubs use software to do the accounting (myICLUB.com an affiliate of Better Investing).

Investment Clubs: What are you talking about?

So, here are a few basic words that are always bandied about when talking investments:

We’ve mentioned bonds which means you are loaning money to a company. If all goes well you will reach the maturity date and collect interest. Now, if they go bankrupt…

When you buy stocks you are basically buying a piece of the company. If the company does well–you do well. If the company doesn’t do well–neither will you.

Indexes are a group of stocks that are like a tiny piece of the economy.

Index Funds are a type of mutual fund. It is a low-cost fund.

Target-date fund think 401 (k) plans. They are an all-in-one portfolio and can change from the more aggressive investments in stocks, but as you get closer to retirement will lean toward bonds.

These are just a few of the many terms used in investment language. It is a whole other playing field!

So, investments may be your thing. Thinking about real estate?

Here’s a show with Dr. Peter Kim, Founder of and Blogger at Passive Income MD, you’re bound to learn something from.

How it’s done…

For the average investor: If you want to build long term wealth your best bet is to invest in a bunch of companies. The easiest way to do that is investing in mutual funds which is a collection of stocks (from individual companies).

Investment clubs will aim to buy a company (or the stock) when the PE (price earning ratio) is less than the average than its been for the last five years

Some clubs do this…

If the price is above its average PE then it will be a little expensive.

If you buy it when the price is a little below its average PE then it will be on sale. This is an ultra-conservative stock.

This was one of several investment strategies. This strategy was a way of dipping your toe in to test the water!

Sometimes, testing the waters is a pro… are there other pros?

Investment Clubs: The Bright Side

Have you maxed out your 401K? Have you already put money into an IRA? Do you want to meet like-minded people?

They are honing their investment skills…while only investing minimal amounts!

They take turns researching, presenting and tracking the stocks every month. Therefore, when the fundamentals change they can decide when it may be necessary to drop a stock.

While having fun…and learning!

Social group

Monthly magazine

Betterinvesting.org

Take trips together

Meet in each others homes

Some clubs have a dinner every year (with extra earnings)

Investment Clubs: Who are You Now?

I did a podcast with Nick True about the science behind positive financial habits. I would love for everyone to check out that podcast because other people’s behaviors do influence what we are doing and how we are doing it.

You’re the average of the five people you spend the most time with

– Jim Rohn

I look at investment clubs as paid mastermind groups. For those readers who aren’t familiar with a mastermind group, they are a group of people that get together from varying backgrounds. Sometimes they are from the same background.

When you’re in residency, setting up your investments may or may not be a priority. If it is, see how this resident saved 60% of their income to make investment decisions.

When I launched my firm three years ago, I met with a group of people every week to go over each of ours. Together we looked at the complex rules for compliance and regulations. These are extremely important to our industry and hard to grasp when you first start out. Having the input and support helped enormously.

They are a great group of guys. I consider them to be lifelong friends. The four of us still meet every week. I also do another podcast with one of the guys from this group that I’ve been meeting with for three and half years, Tim Baker (Money Care Specialists).

Investment Clubs are basically the same but with some rules and guidelines!

There you have it: a glimpse into how an investment club works. You know some pros and cons. Some by-laws, rules and regulations. If you join an investment club you will learn a lot and be expected to participate. Your participation will be both monetary and in action.

What is your opinion on investment clubs? Are you currently a member of one? Have you thought about joining an investment club?